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Central Banks and the Revenge of Politics

FRANKFURT – The reputation of central banks has always had its ups and downs. For years, central banks’ prestige has been almost unprecedentedly high. But a correction now seems inevitable, with central-bank independence becoming a key casualty.

Central banks’ reputation reached a peak before and at the turn of the century, thanks to the so-called Great Moderation. Low and stable inflation, sustained growth, and high employment led many to view central banks as a kind of master of the universe, able – and expected – to manage the economy for the benefit of all. The depiction of US Federal Reserve Chair Alan Greenspan as “Maestro” exemplified this perception.

The 2008 global financial crisis initially bolstered central banks’ reputation further. With resolute action, monetary authorities made a major contribution to preventing a repeat of the Great Depression. They were, yet again, lauded as saviors of the world economy.

But central banks’ successes fueled excessively high expectations, which encouraged most policymakers to leave their monetary counterparts largely responsible for macroeconomic management. Such “expectational” and, in turn, “operational” overburdening has exposed monetary policy’s true limitations.